Off-The-Grid

Just a quick post to let you know that the blog will go into “hibernation mode” for roughly a month, as I am going travelling to very remote places for the next 4-5 weeks, most of which will be without internet access or even electricity… It will be an interesting “jump” into a “disconnected” world, which should hopefully bring me back refreshed and full of new ideas.

Correlation Thoughts

It is often said that “Diversification is the only free lunch on Wall Street”.

Adding a new instrument or system usually improves a portfolio’s risk/reward profile, thanks to the non-correlation of the new addition – with the improvement usually increasing when the correlation decreases.

I’ll leave you with this “Summer puzzle“:

Is it possible to add a strongly anti-correlated instrument to a portfolio, without improving either return or risk of the portfolio? If yes, how?
Note that to make this puzzle less obvious the new instrument should have positive average return and volatility/standard deviation both similar to that of the portfolio (with risk being defined as Max Drawdown, and strongly anti-correlated with Pearson coefficient < -0.8).

Most readers will probably find the key to that puzzle fairly easily, but I still find it worth to ponder the answer, and the impact it can have on how to use correlation in system development. Without thinking about it, it seems fairly counter-intuitive.

As an extra, deciding question, you can try and guess where I will be in the coming month...
Hint: the main clue is in the picture above + the fact that this is a circumambulated mountain (rather than climbed).

Au.Tra.Sy blog, Systematic Trading research and development, with a flavour of Trend Following.

Disclaimer: Past performance is not necessarily indicative of future results. Futures trading is complex and presents the risk of substantial losses; as such, it may not be suitable for all investors. The content on this site is provided as general information only and should not be taken as investment advice. All site content, shall not be construed as a recommendation to buy or sell any security or financial instrument, or to participate in any particular trading or investment strategy. The ideas expressed on this site are solely the opinions of the author. The author may or may not have a position in any financial instrument or strategy referenced above. Any action that you take as a result of information or analysis on this site is ultimately your sole responsibility.

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